Hall of Shame

Consumer Discretionary

Dick Smith (DSH AU)

Year: 2016

Dick Smith Holdings Limited was an Australian chain of retail stores that sold consumer electronics goods, hobbyist electronic components, and electronic project kits. The chain expanded successfully into New Zealand and unsuccessfully into several other countries.

Anchorage Capital bought Dick Smith from Woolworths in November 2012 for A$115m, most of it deferred (see Figure 1 below).  Instead of simply buying Dick Smith shares, Anchorage’s fund set up an empty vehicle to acquire it, presumably giving them free range to manipulate the financials through acquisition accounting (we have noticed this is quite common in Australia). Upon consolidation of the acquired assets, the new vehicle wrote-off A$59m of inventory and A$55m of PPE, establishing A$8.1m of provisions (see Figure 2). This led to the creation of a large deferred tax asset of A$38m and lowered equity by A$97m.  However, the new vehicle still booked a A$146m gain on the acquisition through the income statement. This was a “discount on acquisition” calculated based on the consideration (A$115m) relative to adjusted book value (A$261m). Given that shareholders’ equity totalled A$116m by YE13, the company would have had no equity without this gain.

According to Bloomberg, Dick Smith listed in March 2013 (but didn’t start trading until December), raising A$343m, which appears to have disappeared out the door to Anchorage Capital as a “payment in relation to a corporate reorganisation”. Anchorage Capital then sold its residual stake in September 2014 for around A$90m. It left Dick Smith with a large A$47m payable due to Woolworth’s for the original acquisition. Put simply, the IPO allowed Anchorage to profit from Dick Smith before Woolworths had even been repaid for the original transaction.

Obviously, profit in FY14 and FY15 was boosted by lower depreciation (PPE write-off), higher gross margins (inventory write-off) and the run-down of provisions (from A$30m YE13, to A$14m by YE15). The company is also accused of choosing suppliers based on discounts offered, which they recognised immediately as income (although this is difficult to quantify).

The company got into problems because the re-stocking of inventory was a huge drag on working capital. It was arguably also choosing suppliers based on discounts which could be recognised as income immediately.  Finally, trading into the end of 2015 was disappointing (see ASX release Nov 2015) and the company finally defaulted on loans in January 2016, prompting share suspension and administration (see ASX release from Jan 2016).

It was surprisingly easy to spot the major balance sheet adjustments in the FY13 financials. However, these were only made available to investors on 4th December 2013, after the issue of the IPO prospectus on the 22nd November.  This might be normal practice for Australian IPOs but is odd. As such, analysts might have overlooked them. Interestingly, the prospectus contained limited financial information, mostly focusing on proforma numbers (see Figure 3) which stripped out the closure and/or sale of some 70-odd stores.  Even these numbers did not look overly compelling. In summary, sellside analysts should have spotted this. The company’s financials look like they were deliberately engineered to facilitate an IPO, and must raise questions over the credibility of any future deals coming out of Anchorage Capital.

ASX: Dick Smith Prospectus, 22 Nov 2013

ASX: Financial Report for the 10 months ended 30 June 2013, 4 Dec 2013

ASX: Non-cash adjustment following inventory review, 30 Nov 2015 (60m)

ASX: Voluntary Administration, 4 Jan 2016

Forager: Dick Smith is the Greatest Private Equity Heist of All Time, 9 Oct 2015
Want to know how to turn $10m in to $520m in less than two years? Just ask Anchorage Capital. The private equity group has pulled off one of the great heists of all time, using all the tricks in the book, to turn Dick Smith from a $10m piece of mutton into a $520m lamb.

Anchorage Capital: Dick Smith Case Study Overview

  • Dick Smith was acquired from Woolworths in November 2012
  • Dick Smith is the largest retailer of consumer electronics in Australia and New Zealand by number of stores
  • Anchorage, together with management, implemented a rapid and highly successful turnaround program
  • Successfully listed on the ASX in December 2013, with Anchorage retaining a 20% stake, which was subsequently sold down in September 2014.

Figure 1: Business Combination

Source: Dick Smith, Financial Report for the 10 months ended 30 June 2013, Page 37

Figure 2: Business Combination

Source: Dick Smith, Financial Report for the 10 months ended 30 June 2013, Page 37

Figure 3: Financial Information

Source: Dick Smith, Prospectus, Page 55

Dick Smith : Annual Report 2014

Dick Smith : Annual Report 2015